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Trade as a Zero Sum Game

[This blog post is an excerpt from a TSI commentary published on 27th March 2018]

The policies of the Trump Administration are being influenced by the view that international trade is a zero sum game, where whoever receives the most money is the winner at the expense of whoever receives the most goods. Under this line of thinking, which sometimes goes under the name “mercantilism”, policies are beneficial if they increase the amount of money coming into the country relative to the amount of money going out of the country. As discussed below, it’s the wrong way to look at the world.

Another way of framing the mercantilist position is that the winner is the one who ends up with the larger amount of the medium of exchange and the loser is the one who ends up with the larger amount of real wealth. For reasons we’ll get into in a moment there are actually no winners and losers, but if it were true that one side was getting the better deal then surely it would be the one that ended up with the most real wealth; especially these days, when the medium of exchange is created out of nothing by the banking system.

Also, it’s important to understand that countries don’t trade with each other. For example, the US doesn’t trade with China. What we mean is that a country is not an economic entity that buys and sells. Instead, individuals in one country trade with individuals in another country and in each transaction both sides believe that they are benefiting (otherwise the transaction wouldn’t happen). While it is technically possible to lump together all the transactions undertaken by the individuals in one region and arrive at the conclusion that ‘we’ have a trade deficit or ‘we’ have a trade surplus, in the real world there is no ‘we’ when it comes to trade.

Unfortunately, however, governments pay attention to the meaningless lumping-together of millions of individual transactions, and if the result happens to be what is commonly called a deficit then the government will often conclude that it should place obstacles in the way of many transactions. You may think that you are benefiting from a deal with a foreign seller, but according to the government you are creating a problem for the collective ‘we’ and must be hindered or stopped.

The Trump Administration is in the spotlight at the moment for having undertaken three sets of protectionist measures over just the past two months. There were the tariffs on imported washing machines and solar panels announced in January, the tariffs on imported steel and aluminium announced at the beginning of March and the as-yet-unspecified tariffs on $60B of Chinese imports announced last week. However, the US government does not have a monopoly on counter-productive mercantilism. Far from it! The same sort of ‘reasoning’ that has informed the trade-related missteps of the US government over the past two months is informing the actions of most governments around the world.

For example, other governments are threatening to impose their own tariffs in response to the US tariffs, which is something they would not do unless they wrongly believed that such restrictions could benefit their own economies. For another example, the large quantity of US$-denominated reserves collectively held by central banks around the world has almost nothing to do with the US$ being the official reserve currency and almost everything to do with exchange-rate management designed, using terribly flawed logic, to gain an international trade advantage. Refer to the May-2015 post at the TSI Blog for more colour on this issue.

There is nothing that any one government can do directly to change the wrongheaded protectionist ways of other governments. The best that any single government can do is to not become part of the problem. The ideal situation is that no side erects barriers to international trade, but the second-best situation for any one country is that its own government opts not to erect barriers. Just because some other government decides to impose economic sanctions on its own citizens doesn’t mean that your government is justified in doing the same.